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2. Solow Growth Model for Lilliput The country of Lilliput has a production function of the cobbDouglas form: Yt=Kt0.5N0.5 The population level of Lilliput is
2. Solow Growth Model for Lilliput The country of Lilliput has a production function of the cobbDouglas form: Yt=Kt0.5N0.5 The population level of Lilliput is constant. Capital accumulates as follows: Kt+1Kt=0.4Yt0.4Kt That is, the saving rate is 0.4 and depreciation rate is 0.4 . a) Lilliput is at the steady state. Calculate its steady state level of capital per person (NK) and consumption per person (NC). Show your steps. b) Draw a graph to illustrate your answer in a). c) What is the optimal saving rate that maximizes consumption per person? What is the optimal level of consumption? Explain your answer briefly. d) Use the same graph in a) to illustrate your answer in c). e) After being at the steady state for a long period of time (with the saving rate of 0.4 ), in period t the benevolent king of Lilliput orders the saving rate to be changed to the optimal level. Calculate the consumption per person in period t and period t+1. Show your steps. f) With time on the x-axis and consumption per person on the y axis, draw a graph to describe how consumption per person adjusts from the original steady state to the new (and optimal) one
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